In this post we’ll take a look at the backtest results of opening one GLD short put 45 DTE position each trading day from Oct 1 2009 through Feb 25 2022 and see if there are any discernible trends.
Backtest duration is limited to due to the release date of weekly options on GLD and s2 data sources from Cboe.
We will also explore the performance of the s2 signal. The s2 signal is a boolean (TRUE / FALSE) daily indicator that attempts to identify the days in which short put and short vertical put positions on the SPDR Gold ETF are most likely to be profitable at expiration. s2 is based on data from Cboe and S&P Global.
The thesis is that if we limit order entry to only the days in which s2 is TRUE, we will be “swinging at only the best pitches.” On the days when s2 is FALSE, take no action. Existing positions will remain untouched and no new positions will be opened.
To test this thesis we will:
- limit order entry to only the days in which s2 = TRUE to see if the strategy outperforms daily entry in a statistically significant way
- limit order entry to only the days in which s2 = FALSE to see if the strategy underperforms daily entry in a statistically significant way
Performance of the s2 signal is explored in different contexts in other, non-paywalled s2 signal studies.
All this talk about signals is fine and dandy but a signal-based strategy in isolation isn’t helpful. Let’s compare it against the following benchmark and see how it performs:
- GLD buy/hold (total return) | 100% allocation, no leverage
There are 15 backtests in this study evaluating over 30,800 GLD short put 45 DTE leveraged trades.
Let’s dive in!
The s2 signal yielded a 15% or better improvement in capital efficiency over “market-agnostic” daily short put strats for the following delta targets:
- 5D +/- 4.5, closest to 5
- 10D +/- 5, closest to 10
- 30D +/- 6, closest to 30
- 50D +/- 8, closest to 50
The s2 signal outperformed a “buy and hold” strategy with regard to:
- total return (2 out of 5 strats)
- risk-adjusted return (5 out of 5 strats)
- annualized volatility (5 out of 5 strats)
- max drawdown (4 out of 5 strats)
- max drawdown duration (5 out of 5 strats)
The s2 signal outperformed a “market agnostic” daily short put strategy with regard to:
- total return (0 out of 5 strats)
- risk-adjusted return (4 out of 5 strats)
- annualized volatility (5 out of strats)
- max drawdown (5 out 5 strats)
- max drawdown duration (5 out of 5 strats)
- win rate (3 out of 5 strats)
- premium capture (5 out of 5 strats)
- profit spent on commission (5 out of 5 strats)
- Symbol: GLD
- Strategy: Short Put
- Days Till Expiration: 45 DTE +/- 17, closest to 45
- Start Date: 2009-10-01
- End Date: 2022-02-25
- Positions opened per trade: 1
- Entry Days: each trading day in which s2 signal = TRUE
- Entry Signal: s2 signal
- Timing 3:46pm ET
- Strike Selection
- 5 delta +/- 4.5, closest to 5
- 10 delta +/- 5, closest to 10
- 16 delta +/- 6, closest to 16
- 30 delta +/- 8, closest to 30
- 50 delta +/- 8, closest to 50
- Trade Entry
- 5D short put
- 10D short put
- 16D short put
- 30D short put
- 50D short put
- Trade Exit
- Hold till expiration
- Max Margin Utilization Target (short option strats only): 100% | 5x leverage
- Max Drawdown Target: 99% | account value shall not go negative
- Margin requirements are always satisfied
- Margin calls never occur
- Margin requirement for short CALL and PUT positions is 20% of notional
- Margin requirement for short STRADDLE and STRANGLE positions is 20% of the larger strike
- Margin requirement for short VERTICAL SPREAD positions is the difference between the strikes
- Margin requirement for short CALENDAR SPREAD positions is 20% of the short option (short option expires after the long option)
- Margin requirement for long CALENDAR SPREAD positions is the net cost of the spread (short option expires before the long option)
- Early assignment never occurs
- There is ample liquidity at all times
- Prices are in USD
- Prices are nominal (not adjusted for inflation)
- All statistics are pre-tax, where applicable
- Margin collateral is invested in 3mo US treasuries and earns interest daily
- Assignment P/L is calculated by closing the ITM position at 3:46pm ET the day of position exit if managed early or 4:00pm if held till expiration
- Commission to open, close early, or expire ITM is 1.00 USD per non-index underlying (eg: SPY, AAPL, etc.) contract
- Commission to open, close early, or expire ITM is 1.32 USD per index underlying (eg: SPX) contract
- Commission to expire worthless is 0.00 USD per contract (non-index and index)
- Commission to open or close non-option positions, if applicable, is 0.00 USD
- Slippage is calculated according to the slippage table
- Starting capital for short option backtests is adjusted in $1000 increments such that max margin utilization is between 80-100%, closest to 100%, of max margin utilization target
- Starting capital for long option backtests is adjusted in $1000 increments such that max drawdown is between 80-100%, closest to 100%, of max drawdown target
- Positions that have an exit date beyond the backtest end date are excluded
- For comprehensive details, visit the methodology page
Starting capital requirements of the s2 = TRUE strategies were lower than daily-entry strategies and lower than the s2 = FALSE strats.
s2 = TRUE signal yielded a lower average margin utilization vs daily entry.
Hindsight bias was used to maximize Reg-T margin utilization for each strategy. This allows a “best case” scenario for the option strategy to outperform the benchmark.
Also displayed is the date in which each strategy experienced maximum margin utilization.
s2 = TRUE signal had higher rates of premium capture vs daily entry.
The higher the delta the lower the premium capture.
s2 = TRUE signal outperformed daily entry with regard to win rate. 10D and 16D were exceptions.
The higher the delta the lower the win rate.
s2 = TRUE signal underperformed daily entry with regard to average monthly return.
The higher the delta the greater the average monthly return. 50D was an exception for the s2 = False.
Also displayed is the best and worst monthly returns for each strategy.
s2 = TRUE signal outperformed daily entry with regard to max drawdown.
The higher the delta the greater the max drawdown.
Max Drawdown Duration
s2 = TRUE signal outperformed daily entry with regard to max drawdown duration.
The higher the delta the greater the max drawdown duration. 16D was an exception for the s2 = True.
Average Trade Duration
The average trade duration for almost all strategies was 44 days. The 16D and 30D s2 = True strats ended up with a 1-day-shorter average duration.
Compound Annual Growth Rate
s2 = TRUE signal underperformed daily entry with regard to compound annual growth rate.
The higher the delta the greater the CAGR. 50D s2 = False was an exception.
s2 = TRUE signal outperformed daily entry with regard to annual volatility.
The higher the delta the greater the annual volatility.
s2 = TRUE signal outperformed daily entry with regard to sharpe ratio.
The greater the delta the lower the risk-adjusted return. 16D s2 = False was an exception.
The 5D s2 = TRUE signal strategy had the greatest risk-adjusted return among the option strategies.
Profit Spent on Commission
4.18% – the average percent of profits spent on commission across profitable option strategies.
s2 = TRUE signal underperformed daily entry with regard to total P/L.
The higher the delta the greater the total return. 50D s2 = False was an exception.
All s2 = True and daily-entry option strategies were eventually profitable. s2 = False 16D, 30D and 50D strats were unprofitable.
The results of opening positions only on the days in which the s2 signal = TRUE is compelling. Let’s take a look under the hood and see what’s happening in a bit more detail. In the comparison we’ll look at buy/hold GLD, opening a 50D short put daily, opening a 50D short put only on days when s2 = TRUE, and opening a 50D short put only on days when s2 = FALSE.
Starting Capital and Leverage
Trading exclusively when the s2 signal = FALSE requires significantly more starting capital in order to successfully execute the strategy.
Win Rate Stats
The s2 signal = TRUE strat has roughly half ( 1541 / 3089 ) of the number of occurrences vs daily entry.
Profit and Loss Stats
To calculate capital efficiency of the s2 signal, let’s strip out the impacts of interest on margin collateral and commissions and look at strictly the P/L of the options themselves. The formula is:
( ( strat return / benchmark return ) / ( strat occurrences / benchmark occurrences ) -1 ) * 100
In this example we get:
- strat return = strat income / strat starting capital = ( 81,382 / 60,000 ) = 1.36
- benchmark return = benchmark income / strat starting capital = ( 119,544 / 82,000 ) = 1.46
When we plug in the numbers to the overall formula we get:
- ( ( 1.36 / 1.46 ) / ( 1541 / 3089 ) -1 ) * 100 = 86.72
- s2 signal yields a 87% increase, or 1.9x improvement in capital efficiency vs daily entry for the 50D strat
Across all the strats we have:
s2 = TRUE signal outperformed daily entry with regard to capital efficiency.
Capital efficiency was mixed across delta targets.
Risk adjusted return when s2 = TRUE is 27% greater than daily entry.
Max drawdown when s2 = TRUE is shallower vs the daily entry or the s2 = False strat.
Limiting order entry to days in which the s2 signal = TRUE yields comparable total return vs a daily-entry strategy while materially lowering max drawdown, max drawdown duration, annualized volatility, commission drag and consequently boosting premium capture and risk-adjusted return.
Think about it for a moment. An investor trades roughly half as often and generates nearly the same total return. There’s no need to swing at every pitch; open a position only when it’s worthwhile.
Distribution of s2 signals
The s2 = TRUE signal, while suggesting order entry on roughly half the trading days since 2009, is not evenly distributed throughout time. Here’s a breakdown of participation rate by year:
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